1 BEFORE THE CALIFORNIA STATE BOARD OF EQUALIZATION
2 5901 GREEN VALLEY CIRCLE
3 CULVER CITY, CALIFORNIA
4
5
6
7
8 REPORTER'S TRANSCRIPT
9 MARCH 23, 2011
10
11 SALES AND USE TAX APPEAL HEARING
12 APPEAL OF
13 EARTH-N-WARE, INC.
14 459938 (EA)
15 AGAINST PROPOSED ASSESSMENT OF
16 SALES AND USE TAX
17
18
19
20
21
22
23
24
25 Reported by: Juli Price Jackson
26 CSR No. 5214
27
28
1
1
2 P R E S E N T
3 For the Board Jerome E. Horton
of Equalization: Chairman
4
5 Michelle Steel
Vice-Chairwoman
6
7 Betty T. Yee
Member
8
9 George Runner
Member
10
11 Marcy Jo Mandel
Appearing for John
12 Chiang, State Controller
(per Government Code
13 Section 7.9)
14
15 Diane G. Olson,
Chief
16 Board Proceedings
Division
17
18 For Board of David Levine
Equalization Staff: Staff Counsel
19
Robert Tucker
20 Tax Counsel
21 Kevin Hanks
Chief, Headquarters
22 Operations Division
23
For Department: Cary Huxsoll
24 Tax Counsel
25
For Petitioner: Scott Kauffman
26 Attorney
27 Gerald Newton
Taxpayer
28 ---oOo---
2
1 5901 GREEN VALLEY CIRCLE
2 CULVER CITY, CALIFORNIA
3 MARCH 23, 2011
4 ---oOo---
5 MS. OLSON: Our next item is C5, Earth-N-Ware,
6 Incorporated.
7 Please come forward.
8 MR. HORTON: Mr. Levine, please introduce the
9 issues in the case.
10 MR. LEVINE: The issues in this petition of
11 Earth-N-Ware, Inc. are whether disallowed claimed exempt
12 sales in interstate commerce actually qualified for the
13 exemption, whether adjustments are warranted to
14 unreported taxable cigarette rebates and whether
15 Petitioner was negligent.
16 MR. HORTON: Thank you very much.
17 To the Petitioner, please introduce yourself
18 for the record. You have ten minutes to make your
19 presentation, at which time the Board will hear from the
20 Department. And then we'll return to you for
21 rebuttal.
22 Please commence.
23 MR. KAUFFMAN: My name is Scott Kauffman. I'm
24 the attorney for Earth-N-Ware.
25 MS. YEE: Could you speak into the microphone
26 for us?
27 MR. KAUFFMAN: I'm sorry.
28 MS. MANDEL: You can move it if you're more
3
1 comfortable sitting a little to the left or the right.
2 MR. KAUFFMAN: Is that okay?
3 MR. HORTON: You can move it whatever's
4 comfortable for you.
5 MR. KAUFFMAN: I'm okay?
6 MR. HORTON: Yeah.
7 MR. KAUFFMAN: With me is Mr. Newton. He and
8 his wife Suzanne are the owners of Earth-N-Ware.
9 The issue, as has been stated, is whether --
10 MR. HORTON: One second, you might want to move
11 it the other way. There you go, you seem to -- okay,
12 there, you go.
13 MR. KAUFFMAN: Thank you.
14 The issue as stated is whether Mr. Newton has
15 shown by a preponderance of the evidence whether his
16 sales of the cigarettes were the in the state of Nevada.
17 The first time I met with Mr. Newton, I told
18 him, after listening what he had to tell me and after
19 listening to the auditor's report, I told him that I
20 thought his only real chains to prevail would be if he
21 hand an opportunity to sit before you ladies and
22 gentlemen.
23 And he said, "Why's that, Mr. Kauffman?"
24 And I said, "Gerry, you showed the auditors
25 your invoices. You showed the auditors your
26 bank statements. They tied the invoices out to
27 he bank statements. They tied the bank
28 statements out to the -- out to the -- not
4
1 only the sales and use tax returns, but out to
2 the income tax returns. Still you were not
3 able to prevail."
4 In fact, the auditor's report stated,
5 "Total sales reported in the sales logs, net of
6 lottery sales, were found to be in agreement
7 with total sales recorded in the sales and use
8 tax returns. Total sales reported were in
9 agreement with the total sales reported in the
10 federal income tax returns. No significant
11 differences were found between recorded and
12 reported taxable sales. Claimed nontaxable
13 sales from real sales were examined on an
14 actual basis and no errors were reported."
15 In addition, the auditors, after looking --
16 spending four days in Mr. Newton's store stated in the
17 report,
18 "Mr. Newton provides a very plausible and
19 detailed description of what facts led to the
20 transactions. Mr. Newton provided a logical
21 and plausible description of the transactions."
22 So, I told Mr. Newton that I thought the only
23 opportunity for him to prevail was if he had opportunity
24 to sit down before you ladies and gentlemen, where you
25 could look him in the eye and see that he is a person of
26 honor, a person of character, a person of honesty.
27 AND because so much of our presentation depends
28 upon Mr. Newton's credibility, I am going to shut up
5
1 now, quit being this mouthpiece and give the rest of our
2 time to him.
3 MR. HORTON: Thank you very much.
4 MR. NEWTON: Well, I started the business -- I
5 started getting ready for the business in the '90s,
6 early '90s, by taking trips to Mexico or So Cal for
7 pottery. That was the -- what the business was going to
8 be about. In fact, that's how the name came about.
9 We actually opened in mid-'92, but within a
10 couple of months of opening, I realized that there was
11 no way that we were going to make it selling just
12 pottery.
13 I had met a supplier in Tecate, Mexico who was
14 very helpful and set me up with the pottery. But he
15 also realized that I wasn't going to make it just doing
16 that. He suggested that he had some cousins that might
17 be able to help me. I met them. They came up to my
18 store, showed me how I could start selling cigarettes to
19 supplement my pottery business. And that they would buy
20 from me once I got established because they had a
21 business of selling cigarettes, American-made
22 cigarettes, in Mexico -- which I will get to more in a
23 minute.
24 We eventually then added lottery also to our
25 sales. I believe that was in 1993. And that became
26 even a more important part of our business from a profit
27 standpoint than the cigarettes.
28 We were only making 50 cents a carton on the
6
1 cigarettes that we sold to B and T. We were making 25
2 cents on a carton of cigarettes that we sold to a
3 customer, a walk-in customer. We made six cents on a
4 dollar sale of lottery. We made two cents on a dollar
5 sale of cigarettes. So, lottery was more important to
6 us in the long run. Pottery sales basically became
7 insignificant. Our No. 1 seller was lottery, our No. 2
8 seller was cigarettes.
9 We made to deliveries to B and T primarily on
10 Saturdays, not always on Saturdays. The invoices -- the
11 exhibits that we sent in, we had a copy of every invoice
12 for the three year period of the audit. And the dates
13 of the 31st or 30th, the end of the month delivery could
14 have fallen on any day. So, it wasn't always just a
15 Saturday. But they were made usually on Saturday, after
16 normal business hours, which we would close at 7. And
17 by 7:30 I would be on the road. It's about a seven hour
18 to seven and a half hour round trip, which got me back
19 in time for opening on Sunday.
20 The -- and that process went on for 15 years --
21 not quite 15, but almost 15 years. And it was an
22 important part of the business because of volume. We
23 got a very good price on our cigarettes from the
24 distributors, not the manufacturers. And I will get
25 back to that more too.
26 Let me jump back just a second to the market
27 that B and T had. There's two markets for American-made
28 cigarettes in Mexico. The first one is directed at
7
1 tourists. That's not what they had. Their market was
2 the one that is directed to expatriate Americans that
3 live in Mexico and, apparently, Mexicans that are better
4 -- well off. I have gotten this information, basically
5 in the last three years, since the audit, and it's all
6 secondhand, speaking to people that I know who live in
7 Mexico most of the time and Mexican nationals that go
8 back and forth.
9 And one of the questions I asked is,
10 "Well, how do these people know where to get
11 the cigarettes?"
12 He says,
13 "They don't have to know, they just have to
14 ask -- the retailer, the store whatever they
15 buy from -- if they can get these cigarettes?"
16 And they said, it's all I got to do is ask. If
17 you look this up on the internet, all the information
18 that I found on the internet pertains to the other
19 market, where you can buy American cigarettes and
20 Canadian cigarettes at the duty free stores and the
21 airports. And, again, that is not the market B and T
22 was supposedly selling to.
23 I was criticized in the audit, or subsequent to
24 the audit -- let me rephrase that -- subsequent to the
25 audit that it was unlikely, based on the hours that I
26 worked, that I would make this trip every week. I
27 do that -- that's just the way I lived. I've been
28 working long hours as long as I can remember.
8
1 And I did not keep track of things like gas,
2 mileage. I didn't use it. I didn't need it as a
3 deduction. When I made those trips, I was carrying a
4 large amount of cigarettes that were anywhere from 10 to
5 $30,000 in value. And coming back I was carrying a
6 large amount of money. I didn't want to make any stops.
7 So, I planned it out so that I didn't have to make any
8 stops. I didn't have to stop to get gas. I had a large
9 tank, extended tank, on the vans. Like I say, I can't
10 provide you with receipts for things that I never -- I
11 just didn't keep anything like that.
12 And now I would like to jump now to what is
13 second -- what I consider the second issue, the
14 buydowns.
15 MS. OLSON: Time has expired.
16 MR. HORTON: We will allow to time on rebuttal
17 and then I'm sure, if necessary, we will present
18 questions to allow your client to continue.
19 To the Department, please introduce yourself
20 for the record. You have ten minutes and then we will
21 return for five minutes on rebuttal.
22 MR. HUXSOLL: Good morning, Mr. Chairman,
23 Members of the Board.
24 I'm Cary Huxsoll, from the Board's legal
25 Department, along with Robert Tucker and Kevin Hanks,
26 representing staff.
27 The Department properly disallowed Petitioner's
28 claimed interstate commerce sales. No adjustments are
9
1 warranted to unreported cigarette rebates.
2 Petitioner claimed over $4 million in exempt
3 sales in interstate commerce. All sales were made to
4 B and T Services, Incorporated. Petitioner has not
5 provided any documentation supporting its claim that
6 cigarettes were delivered outside of California.
7 The invoices provided by Petitioner are
8 unsigned. They're not supported by any documentary
9 evidence of actual delivery in Nevada. Petitioner's
10 bank deposits cannot demonstrate where deliveries were
11 made and, thus, do not demonstrate that the sales in
12 question were exempt sales in interstate commerce.
13 We note further that in Petitioner's exhibits
14 that provided 20 invoices with different dates contained
15 matching sales figures. These numbers conflict with the
16 amounts the auditor determined from Petitioner's sales
17 journal during the audit.
18 No adjustments are warranted for unreported
19 cigarette rebates. Petitioner does not dispute that it
20 was paid rebates by cigarette manufacturers or that
21 these rebates constitute taxable gross receipts.
22 Petitioner contends, though, that it collected
23 and remitted sales tax on the rebates. Petitioner did
24 not provide any document demonstrating the rebates it
25 received were included in the tax it reported. Thus, we
26 concur with the recommendation of the Appeals Division.
27 Thank you.
28 MR. HORTON: Thank you very much.
10
1 Rebuttal, please?
2 MR. KAUFFMAN: Yes, thank you.
3 Ladies and gentlemen, the Department's
4 proposing to assess Mr. Newton --
5 MR. HORTON: Sir, I'd like to encourage you to
6 speak into the microphone.
7 MR. KAUFFMAN: I am so sorry.
8 MR. HORTON: No problem.
9 MR. KAUFFMAN: The Department is proposing to
10 assess Mr. Newton for almost a half million dollars of
11 tax liability on the basis that he failed to maintain
12 his records.
13 But he kept his records. He kept his invoices.
14 He kept his bank statements. The auditors, when they
15 were there, they tied out the invoices to the bank
16 statements. They tied out the bank statements not only
17 to the sales and use tax returns, they tied them out to
18 the federal income tax returns.
19 The Department says this is just plain
20 unbelievable that someone would be making the -- you
21 know, these types of trips every week to Nevada. But to
22 me what's even more unbelievable is that someone would
23 be selling 700 cartons a week to either a wholesaler or
24 retailer in California and then be stupid enough not to
25 put that cash in his mattress, but to actually go ahead
26 and put it into his bank account and then to report and
27 pay federal income taxes upon that money and report it
28 to the Board.
11
1 Every sale was reported to the Board on the
2 sales and use tax returns, not just for the audit
3 period, but for a period of 15 years. I think when you
4 look at all of the evidence together, I think by a
5 preponderance of the evidence, by a more likely than not
6 standard, we have shown that these sales could not have
7 taken place anywhere except outside the State of
8 California.
9 You want to go ahead?
10 MR. NEWTON: Yes. I'd like to first start by
11 answering -- jumping to the buydowns. I made a mistake
12 in 2006, the middle year of the audit, by -- when we
13 incorporated, it changed everything. We didn't get
14 1099s any more from the cigarette manufacturers. So, I
15 had to separate the information that I had relative to
16 income that we got from them, which was contracts.
17 MR. KAUFFMAN: There's one important point we
18 need to make and we have it here.
19 MR. NEWTON: I need to get back to that.
20 If you look at Exhibit C, that is the fourth
21 quarter of the audit period, our purchasing data. And
22 the first page is a recap of it. It gives the dates,
23 the vendor, the quantity of cigarettes we purchased and
24 the cost. And the total of 10,736 is not all
25 cigarettes, but 99 percent cigarettes, 10,736 cartons of
26 cigarettes at 330,000.
27 On Exhibit D, it is the same format and the --
28 for the fourth quarter of 2010, last year. Again date,
12
1 vendor, the quantities and the cost. The total
2 quantity, 4,128 versus what we sold of 10,736 -- 4,128
3 is what we're selling roughly now on a quarterly basis
4 versus 10,000, almost 11,000, back when I had business
5 with B and T.
6 MR. KAUFFMAN: And the reason this is important
7 is that during the audit period, B and T terminated the
8 contract. And the purpose of this is to show the sharp
9 drop in cigarette sales or cigarette purchases by
10 Mr. Newton after the contract was terminated.
11 MR. HORTON: Does that conclude your --
12 MR. NEWTON: I have one more. On the -- on
13 the --
14 MR. KAUFFMAN: We're done.
15 MR. HORTON: All right. Member Yee and then --
16 MS. YEE: Let me have Ms. Mandel.
17 MR. HORTON: Ms. Mandel?
18 MS. MANDEL: I just wanted to hear the end of
19 the rebates that is in issue and I know --
20 MR. KAUFFMAN: Yes.
21 MS. MANDEL: -- you moved your exhibits.
22 MR. KAUFFMAN: Thank you.
23 MR. NEWTON: The rebates were claimed in 2006
24 by me, in a mistake, as income on my federal tax return.
25 Based on that and in the writeup by the -- when we went
26 through the review with the DO -- the Department of --
27 the BOE, the lawyer, they said that -- I have it written
28 here, let me find it.
13
1 It says, "Income tax returns," on page -- it
2 was under the Appeals Division summary, page 3, the
3 second sentence states,
4 "On the income tax returns, however, the
5 Department noted that Petitioner had separately
6 reported rebate income as other income."
7 That implies to me that I did that for three
8 years, which is not true. I made a mistake one year. I
9 did not do it in 2005 and I discovered the problem in
10 2007 when I did my taxes in '7.
11 Those -- there is no way I could have not
12 passed on rebates to the customers. The cigarette
13 companies verify that every two weeks. If you're in
14 violation of that, you lose not only any monies they owe
15 you -- you get paid, normally, four to six weeks after a
16 sale for a buydown, a rebate.
17 If you get caught not passing that on, any
18 monies they owe you, you don't get. And the contract
19 ends.
20 And the only reason that they assumed this was
21 income was because of my mistake. But even if I had
22 done that every year, a rebate is not income, in my
23 mind.
24 MS. MANDEL: Okay. I think that the issue on
25 the rebates, as I understood it, was whether when you
26 sold the cigarettes, whether you collected and remitted
27 sales tax in an amount that included, you know, whatever
28 the rebate amount was? So, if you sold the cigarettes
14
1 for five bucks to someone and you got -- and there was a
2 $2 rebate associated with that sale, was the tax that
3 you collected based on $7 and remitted based on $7?
4 That's how I understood. The issue was that
5 you were saying that you did.
6 MR. NEWTON: Well, that's how I did it.
7 MS. MANDEL: Okay.
8 MR. NEWTON: I treated buydowns exactly like a
9 coupon. You applied the tax, then you applied the
10 coupon for buydown I don't think that was what is in
11 dispute here.
12 MS. MANDEL: Okay. That's -- is that
13 different, Mr. Hanks, than the way you guys understood
14 how he was doing it? Or did you -- can you help out?
15 Because I thought he -- that the argument was
16 whether or not he had already paid the tax on it.
17 MR. HANKS: Correct, that's how I understood
18 the discussion was that I believe the Petitioner was
19 mentioning that he taxed the discounted price, in your
20 example, and he reported tax on that $5 sale to the
21 Board.
22 And he's saying,
23 "I already reported that tax and, therefore, I
24 need to see that you give me credit for it."
25 Now in our audit we -- we have not -- we have
26 not treated it the way that the Petitioner is
27 interpreting it because we haven't been able to verify
28 that those amounts were reported to us.
15
1 So, we've looked at the value of these rebates.
2 We've separated the rebates in connection with the
3 buydown programs from the display programs because we
4 have --
5 MS. MANDEL: Right.
6 MR. HANKS: -- dollars for both.
7 MS. MANDEL: Right.
8 MR. HANKS: And we're asserting tax --
9 MS. MANDEL: You're asserting --
10 MR. HANKS: -- just on the buydown portion.
11 MS. MANDEL: -- you're asserting tax on the
12 buydowns.
13 Now, if he -- if he -- it's been so long since
14 I've looked at, you know, the particulars of how they do
15 it.
16 The way he just explained it, he put tax -- tax
17 on.
18 So, in my example, sir, if the customer walked
19 in and had to pay 5 -- had to hand you $5, you charged
20 tax on the $5 and then applied the rebate amount?
21 Or you charged tax on $7 if it was a $2 rebate
22 and charged --
23 MR. NEWTON: The way ours was calculated was we
24 had an -- our prices, a customer came in, he saw $5.
25 MS. MANDEL: Okay.
26 MR. NEWTON: That included the tax, okay. And
27 it also included any rebates. The tax was calculated
28 first, before we posted the price.
16
1 And the auditors verified that.
2 MS. MANDEL: Okay.
3 MR. NEWTON: Go ahead.
4 MS. MANDEL: Let me stop you right there to
5 make sure I got the math understanding.
6 So, if before there was a rebate it would have
7 been a $7 price --
8 MR. NEWTON: Right.
9 MS. MANDEL: The -- what I am hearing you say
10 is you calculated what tax would be on a $7 price,
11 recognizing it was a rebate.
12 You then sold the product for a tax included
13 price of $5 and I just had to hand you $5 and I got it?
14 MR. NEWTON: Correct. If that was what it
15 worked out to be.
16 MS. MANDEL: Okay. So, the way he's explaining
17 it, it sounds like he has the tax on the rebate amount
18 up front.
19 And part of what I heard the Department say was
20 you couldn't figure that out from the documents?
21 MR. HANKS: Correct.
22 MS. MANDEL: Okay.
23 MR. HANKS: There were register tapes for us to
24 see.
25 MS. MANDEL: Okay, from the register tapes.
26 But you can't figure out from the register
27 tapes because what he's saying today is that the price
28 he posted, which is what's going to show on the register
17
1 tape, was a tax included price after he made the
2 adjustments.
3 And he's saying that somehow that was verified
4 at audit -- at least that it was -- I mean, can you tell
5 from the register tapes that it's tax included or was
6 it --
7 MR. NEWTON: Well --
8 MS. YEE: Posted price?
9 MR. NEWTON: In our case, all's you can tell on
10 the register tapes is what was entered, $5 rung up or
11 $10 rung up --
12 MS. MANDEL: Okay.
13 MR. NEWTON: -- for cigarettes.
14 But what the auditors had, what I had given
15 them was a spreadsheet that shows where -- what our cost
16 is, what our price is, what the markup is, what the tax
17 is.
18 It used to contain the buydowns. And it would
19 subtract -- but it would show that our price was our
20 price plus our markup was what tax was calculated to be,
21 after the tax calculations our sales, our price, it was
22 subtracted from the price. And that was what was
23 posted.
24 So, for example, if the carton cost $30, we had
25 a five dollar buydown on it, the tax -- we made a
26 quarter -- the tax was charged on $30.25, then we
27 subtracted $5 from that and posted that price.
28 MS. MANDEL: Okay.
18
1 MR. NEWTON: That was verified.
2 MS. MANDEL: Okay, Mr. Tucker, you're making a
3 face.
4 So, did -- are you following what he's saying?
5 MR. TUCKER: Yes, I'm following what he is
6 saying. Unfortunately, it wasn't -- there weren't
7 sufficient documents to be able to determine that that
8 was what occurred.
9 MS. MANDEL: Okay.
10 MR. TUCKER: That's ultimately --
11 MS. MANDEL: Well, that's what it says in your
12 stuff, weren't sufficient documents.
13 MR. TUCKER: Right. There were no register
14 tapes, there were no comments that reflect --
15 MS. MANDEL: Okay. So, there's nothing --
16 there's no -- you can't find any -- he's saying that the
17 auditor verified that that's what they were doing.
18 So, I'm just -- and you're just saying that
19 there's nothing written in the --
20 MR. TUCKER: The --
21 MS. MANDEL: -- work papers that suggests it.
22 And then where --
23 MR. TUCKER: -- there --
24 MS. YEE: -- he's focused -- hang on a second,
25 before -- I'll run out of steam eventually, not to
26 worry -- where he's focused is that because of the way
27 he reported on his federal income tax return, where he
28 reported that one year and it was listed as other --
19
1 other income.
2 So, for that -- for that -- I guess one
3 question might be for that year where it was -- where he
4 -- I don't have to talk so loud now -- for that year
5 where it came as other income, does -- does that then --
6 does that number and gross receipts on his -- whatever
7 it's called on his total sales on his income tax return,
8 does that tie back to -- because if it tied back to his
9 sales tax return, because presumably if he had -- if he,
10 in fact, had tax on the rebate figure the way that he's
11 describing it, then it ought to tie in with his income
12 tax return.
13 MR. TUCKER: The sales and use tax returns and
14 the federal income tax returns do tie out together.
15 MS. MANDEL: They tie out together based on
16 sales on the income tax?
17 MR. TUCKER: The sales equal -- the amount
18 reported for sales on the income tax return, within a
19 dollar or two, equal the amounts reported.
20 MS. MANDEL: Okay. And, so --
21 MR. HANKS: So, that doesn't calculate the
22 other income.
23 MS. MANDEL: Well, doesn't it include --
24 MR. TUCKER: Right.
25 MS. MANDEL: -- the other income figure that he
26 entered, which he's saying that year it was a -- he did
27 his -- he's saying he did his federal income tax return
28 wrong that year.
20
1 MR. TUCKER: Correct.
2 MS. MANDEL: Okay.
3 MR. TUCKER: The question -- the problem that
4 staff was confronted with is that there was no proof
5 that the rebates were included in the gross receipts.
6 MS. MANDEL: So, what about his spreadsheet and
7 of how he -- when was this spreadsheet produced?
8 I mean, when did you do that?
9 MR. NEWTON: The spreadsheet?
10 MS. MANDEL: Yeah, were you --
11 MR. NEWTON: It was during the audit.
12 MS. MANDEL: During the audit?
13 MR. NEWTON: Right.
14 MS. MANDEL: But where did the information on
15 it come from?
16 I mean --
17 MR. NEWTON: Oh, I keep -- well, this balances
18 to -- it starts off with a price, which comes from the
19 invoices.
20 MS. MANDEL: Okay.
21 MR. NEWTON: And then the -- our price and it
22 shows our markup and then it shows what the sales tax is
23 on it.
24 MS. MANDEL: Right.
25 MR. NEWTON: Okay. And then if there is a
26 buydown, it's deducted from the price after tax is
27 calculated.
28 So, it's like you would do a coupon.
21
1 MS. MANDEL: Okay. And I understand that. I
2 guess some -- and did you put that spreadsheet together
3 for purposes of the audit?
4 MR. NEWTON: No, no. I used to do -- I use
5 this audit -- this continually.
6 MS. MANDEL: Okay.
7 MR. NEWTON: Because this is -- this is what
8 sets our price.
9 MS. MANDEL: So -- so, when you gave them --
10 showed them that at the audit, was that something you
11 printed off your computer that had been produced or that
12 you had done the calculations and made the spreadsheet
13 during the audit --
14 MR. NEWTON: Yes.
15 MS. MANDEL: -- during the time frame that
16 we're talking about and then the auditor comes in later
17 and you say, "Here is my stuff from those years."?
18 MR. NEWTON: No, they were using in the current
19 one.
20 MS. MANDEL: They were using current?
21 MR. NEWTON: And comparing that to our posted
22 price.
23 MS. MANDEL: Oh, to make sure that what you --
24 okay.
25 MR. NEWTON: That our buydown, the tax was
26 applied prior to the buydown.
27 MS. MANDEL: Right. So, when they were in your
28 store, they could see by looking at what you had that,
22
1 in fact, your posted price was done that way?
2 MR. NEWTON: Yes.
3 MS. MANDEL: You are still making a face,
4 Mr. Tucker.
5 MR. TUCKER: I guess that's just the way that
6 -- unfortunately --
7 MS. MANDEL: It's just your face, I'm sorry.
8 MR. TUCKER: Yeah, I apologize.
9 MS. MANDEL: I just want to make sure you
10 understand -- yeah, what he's saying.
11 MR. TUCKER: I understand. I think the -- once
12 again, it just comes back to a problem of documentation
13 and that we couldn't go back to the actual daily
14 register tapes to confirm that those were the prices.
15 MS. MANDEL: But I understand -- okay, so, I
16 understand why -- I guess I understand why it wouldn't
17 show on his register tape because he's doing it before
18 he actually posts a price.
19 So, his -- if his -- if his price is all
20 inclusive, then that's -- that's the number that's going
21 to be on his register tape, there's not going to be a
22 breakout on the register tape.
23 So, is what you're saying more that, well,
24 yeah, okay, fine, on the date when we were in the store,
25 that's how it was done, but I don't know that's how it
26 was done two years ago during the audit period?
27 I just -- I mean, he's --
28 MR. HANKS: Right.
23
1 MS. MANDEL: -- we haven't heard somebody sort
2 of say, "This is how I did it," which I guess you're --
3 if that's how he did it, was that the right way -- was
4 that a right way to do it and then it would have been
5 taxed?
6 It would have been in there, the tax on the
7 rebate.
8 MR. HANKS: Yes, the way he's describing it is
9 correct.
10 MS. MANDEL: So -- so, what -- what then does
11 he have -- do you have -- do you have that information
12 back from this time period of the audit, your sort of
13 schedule showing how you calculated price?
14 Or do you --
15 MR. NEWTON: Well, I probably have dozens of
16 them going back, but I don't keep them all because every
17 time the price changes, I have to redo it.
18 MS. MANDEL: Yeah.
19 MR. NEWTON: And that happened a lot.
20 But what we -- what the auditor did, what they
21 worked from, was my daily receipt log. And it showed
22 everything -- every ring up for pottery, lottery and
23 cigarettes and then every invoice to B and T.
24 And then -- then I did an invoice recap report,
25 which was by day and showed invoice amounts, weekly
26 sales, weekly taxable sales.
27 And then there is copies -- behind all of that
28 were copies of each of the tax returns for that month or
24
1 quarter because that changed over time too.
2 MS. MANDEL: Okay.
3 MR. NEWTON: And then all of this balanced to
4 my federal forms.
5 And during the audit period, those -- like I
6 say, these prices all included. The only reason I
7 believe the issue came up was my mistake of saying it
8 was income, because --
9 MS. MANDEL: Let me --
10 MR. NEWTON: -- it shouldn't be income.
11 MS. MANDEL: -- okay, let me -- so, other than
12 in 2006, I think you mentioned something about a 1099.
13 Did you get or --
14 MR. NEWTON: Well, when I was a sole
15 proprietorship --
16 MS. MANDEL: Correct.
17 MR. NEWTON: -- they used to send us 1099s with
18 a nice breakdown. And it had on it contractual
19 payments, the buydowns were separate, coupons were
20 separate.
21 Well, I didn't know it at the time, but when we
22 changed to a corporation, they don't send us 1099s any
23 more, even the lottery stopped sending us 1099s.
24 And I asked my accountant, the guy that does my
25 taxes. I said, what's -- he says you don't have to send
26 1099s to a corporation, which was news to me because I
27 used to rely on those.
28 Without them, I had to do that all manually and
25
1 go back and separate out contractual payments from
2 cigarette companies, which is income, from buydowns,
3 which isn't.
4 Well, in '06 I was rushing to get the tax data
5 to -- for the federal to my accountant because another
6 thing that changed was my taxes were no longer due in
7 April, they're due in March.
8 MS. MANDEL: Right.
9 MR. NEWTON: Well, like I said, I wish I had
10 never done this.
11 But, so, when I was in the process of rushing
12 to get the information, I transmitted all of the data to
13 him. I put that in there on my -- listed it as rebates
14 under my other income category.
15 After the fact, when I found out about it and I
16 made a comment to him, "It's rebates, you shouldn't have
17 included that."
18 He said, "You know, you shouldn't have sent
19 it."
20 Well, he's probably right. I shouldn't have.
21 And I didn't do it other than that one year.
22 But I -- I believe that subsequent to the
23 audit, when apparently they go through a review, they
24 said, well, if he's claiming that as income, he wasn't
25 passing it on to the customer, which is impossible to
26 do, first off, because you would lose your contract.
27 And the only reason you do buydowns is to be
28 competitive. If you're not going to put it into the
26
1 price, there's no reason to do it. You can't put it in
2 your pocket.
3 MS. MANDEL: Okay. I hear what he's saying and
4 I'm -- and you hear what he's saying?
5 And I'm wondering what it is you need to see
6 for this time period?
7 MR. HANKS: Ms. Ms. Mandel this is what I'd
8 suggest, if we could, I would really like to look at the
9 journal that you've got.
10 Because if we can examine that journal and see
11 how you have accounted for even the quarterly sales
12 because we've got the recap of all the quarterly
13 reported amounts, we've got the amounts for the
14 deductions taken for sales tax.
15 You indicate that you sold the cigarettes on
16 a tax included basis. If we could back into those
17 numbers based on the journal information you have there,
18 perhaps we could satisfy ourselves that the amounts were
19 reported were included in one of our returns.
20 MR. HORTON: Members, let's hear from
21 Mr. Levine.
22 And then, if it be the desire of the Members to
23 grant a 30-30-30 to allow that to happen, we can
24 entertain a motion.
25 MR. LEVINE: What I was going to suggest is if
26 we're going 30-30-30, there is a line of discussion that
27 we didn't include in the D & R that occurred to me as
28 I'm listening to this, perhaps Petitioner can clarify
27
1 now.
2 But only a -- my recollection is only a person
3 licensed as a cigarette distributor can hold taxfree
4 cigarettes. So, Petitioner's presumably is buying tax
5 stamped cigarettes and it's hard to accept -- anything
6 is possible, but it's hard to accept that someone in
7 Nevada is going to pay for California taxes and I assume
8 they have to pay Nevada too because tobacco taxes are
9 really strict.
10 I doubt they get credit. But it's just hard to
11 believe that someone would buy tax paid stamped -- tax
12 paid cigarettes.
13 So, perhaps they can clarify now or in a later
14 submission.
15 MR. KAUFFMAN: We can clarify now.
16 MR. HORTON: Tax paid California?
17 MR. NEWTON: Pardon?
18 MR. HORTON: California, tax paid cigarettes.
19 MR. KAUFFMAN: Yes.
20 MR. NEWTON: That's the only kind I can buy.
21 And they were buying them in Nevada. They don't -- as
22 far as I know, they don't have to pay Nevada anything
23 because they're not selling them in Nevada.
24 They're just taking possession of them in
25 Nevada and then they ship them to Mexico. It's illegal
26 to sell them in Nevada because of the California tax
27 stamp.
28 Oh, yeah, apparently the State taxes -- the
28
1 State tax stamp is a -- was one of the things that
2 distinguishes the true American-made cigarettes from the
3 other ones. And in Mexico you can get both -- the ones
4 that -- they look the same, but they're not. And they
5 flip it over and if it's got a tax stamp on it, they
6 know that's the one they want.
7 MR. HORTON: Yeah, I only chuckle because
8 Congress made a similar statement when they acknowledged
9 the methodology in which we use here in the State of
10 California is recognized throughout the United States as
11 giving credibility. So, it's good to hear that again.
12 Let's discuss this a little bit more, seems
13 like -- because there still is -- I don't know if you
14 responded, maybe Member Yee can frame --
15 MS. YEE: Actually, I wanted to talk about a
16 different issue.
17 MR. HORTON: Well --
18 MS. YEE: I guess this relates to the rebate
19 issue. My concern is really that income not having been
20 reported on the sales and use tax return and, so, we've
21 -- which kind of brings us nowhere with respect to that
22 issue.
23 I'm open to the Department trying to back into
24 an amount, but I would be willing to give more time for
25 that to happen.
26 My other question, actually, relates to the
27 voluminous exhibits that we received relative to
28 invoices. And my question is, are these contemporaneous
29
1 invoices?
2 They weren't signed and I'm curious as to
3 why.
4 MR. NEWTON: When I made a delivery, I gave
5 them two copies. And the copy that they gave me back
6 was what they used when they were going through the
7 delivery and checking things off. They were -- they
8 were unlegible (verbatim). 99 percent of the time the
9 guys that I actually delivered to didn't speak English.
10 So, they --what I would point to the signature line,
11 even on the wet or -- and/or crumpled up invoice that I
12 got back, they just put a line through it, like it was
13 okay.
14 Well, when I got back to my shop, because I
15 knew I had to keep these, I would print off another copy
16 for these -- this journal, I guess it's called. This is
17 what the auditors used to do the audit. This was the
18 primary -- this plus all of our purchasing data, but --
19 those were the audits that I sent you as Exhibit A and
20 B. Those invoices were copies of what I did from, you
21 know, during that period.
22 MS. YEE: Okay. And the subsequently submitted
23 ones were also from the period? Or were they reprinted
24 later on?
25 MR. NEWTON: The ones that I sent you were the
26 reprinted ones. That's all I had.
27 MS. YEE: All right.
28 And then with respect to the bank statements, I
30
1 think what makes this difficult is we're having a hard
2 time really nailing where the deliveries were being
3 made. And certainly from the bank statements we're not
4 able to determine that.
5 Any other documentation that might help?
6 MR. NEWTON: The bank statements are basically
7 almost impossible because of the commingling of the
8 funds because of lottery money and the cigarette money
9 is -- the only thing that's consistent is whenever I
10 made a trip to Nevada, the next banking day there was
11 always a large deposit. It may have been even larger
12 than just the money generated from Nevada because of
13 lottery.
14 MS. YEE: Okay. Was this your first audit?
15 MR. NEWTON: Pardon?
16 MS. YEE: Was this your first audit?
17 MR. NEWTON: Yes.
18 MS. YEE: And you're still in business?
19 MR. NEWTON: Barely.
20 MS. YEE: All right, thank you.
21 MR. HORTON: All right.
22 Mr. Runner?
23 MR. RUNNER: A couple of questions just to
24 clarify.
25 This -- this particular piece here, is this --
26 is this what -- your signature's on here, right?
27 MR. NEWTON: Yes.
28 MR. RUNNER: And whose -- and the driver's
31
1 signature is who?
2 MR. NEWTON: This -- these are part of the
3 cigarettes that I buy.
4 MR. RUNNER: Okay, okay. So, these have
5 nothing to do with the delivery over in --
6 MR. NEWTON: No, no.
7 MR. RUNNER: -- Nevada?
8 MR. NEWTON: No.
9 MR. RUNNER: Okay.
10 MR. NEWTON: This is just a comparison of --
11 MR. RUNNER: I just wanted to clarify that.
12 So, these have nothing to do with that. So,
13 what is -- when you would make that delivery to
14 Nevada --
15 MR. NEWTON: Yes, sir.
16 MR. RUNNER: -- you would get nothing back
17 other than cash from -- once you gave them -- once you
18 sold them the -- those cigarettes?
19 MR. NEWTON: Yes.
20 MR. RUNNER: What would they -- would they sign
21 anything? Would they give you anything?
22 Would they --
23 MR. NEWTON: They just initial, yes, they'd
24 give me the money.
25 MR. RUNNER: Right, right, I got that part.
26 MR. NEWTON: Yes.
27 MR. RUNNER: And give you then what -- I mean,
28 any receipt of -- that they had received anything or --
32
1 MR. NEWTON: Well, they kept a copy of that.
2 MR. RUNNER: They'd keep a copy of this
3 (indicating)?
4 MR. NEWTON: No, no. They'd keep a copy of
5 this invoice (indicating).
6 MR. RUNNER: They'd keep a copy of that
7 invoice?
8 MR. NEWTON: Right. Those are invoices from my
9 supply.
10 MR. RUNNER: They'd keep -- but they wouldn't
11 sign that and give a copy of that back to you?
12 MR. NEWTON: They'd scribble on it, but it
13 really wasn't a legitimate -- a good signature.
14 MR. RUNNER: Okay, so --
15 MR. NEWTON: But I brought two copies with
16 me.
17 MR. RUNNER: Okay.
18 MR. NEWTON: And gave them both, one that I
19 wanted them to sign.
20 MR. RUNNER: Give a copy of a scribbled one?
21 MR. NEWTON: Well, they used it as a work sheet
22 when they were counting the cigarettes.
23 MR. RUNNER: And -- but then they gave it back
24 to you?
25 MR. NEWTON: They gave it back.
26 MR. RUNNER: And do you have one of those that
27 they used as a work sheet with the scribble on it?
28 MR. KAUFFMAN: He's hard of hearing, so --
33
1 MR. RUNNER: Okay.
2 MR. NEWTON: I might not now.
3 MR. RUNNER: Okay.
4 MR. NEWTON: I didn't keep them very long.
5 MR. RUNNER: Okay. Again part of this
6 discussion it seems to me, for me, is what -- how these
7 transactions took place and where they took place is
8 obviously a key part of this discussion.
9 So, you know, trying to find something that
10 would help you to determine that there was something
11 actually took place over there is all I'm trying to
12 find.
13 Let me ask you about this, in your own
14 recordkeeping you used, you did these deliveries?
15 MR. NEWTON: Oh, yeah.
16 MR. RUNNER: And then you would drive this van
17 back and forth every week?
18 MR. NEWTON: Well --
19 MR. RUNNER: Almost --
20 MR. NEWTON: -- there were --
21 MR. RUNNER: Almost every week, almost every
22 week?
23 MR. NEWTON: Almost.
24 MR. RUNNER: Do you -- does your filing -- does
25 your income tax filing reflect that kind of vehicle use
26 for business purposes?
27 MR. NEWTON: No, because I -- I used it for
28 personal use too. And I was under the impression that I
34
1 had to keep a log if I wanted to write it off, which I
2 really didn't need a writeoff, so, I didn't do that.
3 MR. RUNNER: Because you never paid tax?
4 You don't have any income tax liability for the
5 State of California or you don't have an income tax
6 liability, you have not had to pay?
7 MR. NEWTON: Oh, no, no. We've had to pay, but
8 we're not making that much money. So, you know, it was
9 a small amount that we were making.
10 MR. RUNNER: Okay. I guess I am struggling
11 over a business transaction and a business operation
12 that would have a legitimate business deduction that
13 would then lower your tax exposure and you're choosing
14 not to do it.
15 MR. NEWTON: Well, for example, the '86, where
16 I made the mistake claiming buydowns as income, had I
17 done it right, we wouldn't have had -- we would not --
18 we would have had a net loss. And I ended up paying
19 taxes on about $3,000, if I remember right.
20 But, again it was my -- I didn't even find out
21 about it until a year later.
22 MR. RUNNER: And then you have no other -- you
23 have no other receipt of gas that you would have bought
24 when you got back?
25 Because, I mean, obviously, you can get -- you
26 can get from your place to Nevada and back again in a
27 tank.
28 MR. NEWTON: Yes, that's right.
35
1 MR. RUNNER: But you're going to have to need
2 gas right away.
3 MR. NEWTON: Right.
4 MR. RUNNER: You don't have any receipt of
5 transactions of gas either before or right after these
6 trips?
7 MR. NEWTON: I don't use a credit card.
8 MR. RUNNER: Okay.
9 MR. NEWTON: I always paid cash.
10 MR. RUNNER: Okay. Let me ask you this, one of
11 the issues that you said that there would be an influx
12 of cash into your bank account on the day after these
13 trips.
14 MR. NEWTON: The next banking day.
15 MR. RUNNER: Let me ask our folks, did you --
16 did we reflect that?
17 Did we see -- did we -- did we do any kind of a
18 correlation between these dates of these trips and the
19 bank balances on those dates and deposits?
20 MR. HUXSOLL: There is generally a deposit from
21 the dates that I've seen of the Saturday deliveries,
22 that Monday there was a deposit around $11,000.
23 But it's unclear. So, there was -- there were
24 deposits, but there was a whole series of deposits and
25 attempting to connect them back to the deliveries.
26 MR. RUNNER: Okay, thank you.
27 MS. MANDEL: Mr. Horton --
28 MR. HORTON: Ms. Mandel?
36
1 MS. MANDEL: -- one more question?
2 When -- when -- if we go on a 30-30-30 -- and I
3 don't know, maybe you have looked at this before -- but
4 with -- again with respect to determining the rebate
5 question, you said that gross sales on income tax
6 returns tied out to sales tax returns.
7 My question is whether the -- I don't know if
8 we ever really look at it this way -- but whether the
9 sales tax reported makes sense in light of the gross
10 sales, the taxable sales reported?
11 I mean, if -- because it sounds like if the
12 rebates -- and one thing would be if the rebates were
13 included in -- already included in the reportable
14 measure, then your -- your -- your sales tax actually
15 reported would be higher than you would have expected if
16 it was just, you know, the cash that someone handed,
17 which was the more what we used to see when people
18 weren't.
19 And if this time period was after -- when is
20 this time period? Well, some people may have been
21 reporting, I don't -- you know, there was much older
22 time periods where there was more stuff about rebates.
23 So, if this time period was after when people
24 were getting more information about how to report, it
25 might be relevant.
26 MR. HANKS: We can certainly look at that.
27 I was thinking the same thing. Though when we
28 did reconciliation of the federal income tax return to
37
1 gross receipts to the reported receipts, they tied
2 exactly. So, that gave us an indication that the rebate
3 income wasn't reported because the rebate income was
4 separately stated in the federal income tax returns.
5 That's why he believe they weren't reported to
6 us.
7 MS. MANDEL: Right. But I don't know if we
8 ever compared to the sales tax. You know, we look at
9 the gross number of receipts, but I don't know if we
10 ever look at the sales tax dollars and on those receipts
11 whether they make sense in a general realm.
12 MR. HANKS: Well, as I say, we'd be happy to
13 look at -- at the information that the Petitioner is
14 supplying --
15 MS. MANDEL: Okay, thanks.
16 MR. HANKS: -- in case we can back into the
17 fact that those amounts were reported on one of our
18 sales and use tax returns, if that's the Members'
19 desire.
20 MR. HORTON: Okay, Members.
21 Further discussion, Members?
22 Is there a motion?
23 MS. MANDEL: Take it under submission.
24 MR. HORTON: It's been moved to take it under
25 submission.
26 MS. YEE: Second.
27 MR. HORTON: Second by Ms. Steel.
28 MS. YEE: Ms. Yee.
38
1 MR. HORTON: Ms. Yee, my apologies.
2 Without objection, Members, such will be the
3 order.
4 MR. KAUFFMAN: Good day.
5 MR. HORTON: Thank you so very much for coming.
6 The Board will take your matter up under
7 consideration later on this evening and send you a he
8 written report of our decision.
9 ---o0o---
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1 REPORTER'S CERTIFICATE
2
3 State of California )
4 ) ss
5 County of Sacramento )
6
7 I, JULI PRICE JACKSON, Hearing Reporter for the
8 California State Board of Equalization certify that on
9 MARCH 23, 2011 I recorded verbatim, in shorthand, to the
10 best of my ability, the proceedings in the
11 above-entitled hearing; that I transcribed the shorthand
12 writing into typewriting; and that the preceding pages 1
13 through 39 constitute a complete and accurate
14 transcription of the shorthand writing.
15
16 Dated: April 7, 2011
17
18
19 ____________________________
20 JULI PRICE JACKSON
21 Hearing Reporter
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